ORRSTOWN FINANCIAL SERVICES INC. Management’s Discussion and Analysis of Financial Position and Operating Results (Form 10-Q)

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The following discussion and analysis is intended to assist readers in
understanding the consolidated financial condition and results of operations of
Orrstown and should be read in conjunction with the preceding unaudited
condensed consolidated financial statements and notes thereto included in this
Quarterly Report on Form 10-Q, as well as with the audited consolidated
financial statements and notes thereto for the year ended December 31, 2020,
included in our Annual Report on Form 10-K. Throughout this discussion, the
yield on earning assets is stated on a fully taxable-equivalent basis and
balances represent average daily balances unless otherwise stated. Certain prior
period amounts presented in this discussion and analysis have been reclassified
to conform to current period classifications.
Overview
The Company, headquartered in Shippensburg, Pennsylvania, is a one-bank holding
company that has elected status as a financial holding company. The consolidated
financial information presented herein reflects the Company and its wholly-owned
subsidiary, the Bank. At September 30, 2021, the Company had total assets of
$2.9 billion, total liabilities of $2.6 billion and total shareholders' equity
of $268.6 million.
Caution About Forward-Looking Statements
Certain statements appearing herein, which are not historical in nature, may
constitute forward-looking statements within the meaning of Section 27A of the
Securities Act of 1933, as amended, and Section 21E of the Securities Exchange
Act of 1934, as amended, and are intended to be covered by the safe harbor
provisions of the Private Securities Litigation Reform Act of 1995. In addition,
we may make other written and oral communications, from time to time, that
contain such statements. Such forward-looking statements refer to a future
period or periods, reflecting our current beliefs as to likely future
developments, and use words like "may," "will," "expect," "estimate,"
"anticipate" or similar terms. Forward-looking statements are statements that
include projections, predictions, expectations, estimates or beliefs about
events or results or otherwise are not statements of historical facts,
including, but not limited to, statements related to new business development,
new loan opportunities, growth in the balance sheet and fee-based revenue lines
of business, merger and acquisition activity, reducing risk assets, and
mitigating losses in the future. Actual results and trends could differ
materially from those set forth in such statements and there can be no
assurances that we will achieve the desired level of new business development
and new loans, growth in the balance sheet and fee-based revenue lines of
business, successful merger and acquisition activity, continue to reduce risk
assets or mitigate losses in the future. In addition to risks and uncertainties
related to the COVID-19 pandemic (including those related to variants, such as
the delta variant) and resulting governmental and societal responses, factors
that could cause actual results to differ from those expressed or implied by the
forward-looking statements include, but are not limited to, the following:
ineffectiveness of the Company's strategic growth plan due to changes in current
or future market conditions; the effects of competition and how it may impact
our community banking model, including industry consolidation and development of
competing financial products and services; the integration of the Company's
strategic acquisitions; the inability to fully achieve expected savings,
efficiencies or synergies from mergers and acquisitions, or taking longer than
estimated for such savings, efficiencies and synergies to be realized; changes
in laws and regulations; interest rate movements; changes in credit quality;
inability to raise capital, if necessary, under favorable conditions; volatility
in the securities markets; the demand for our products and services;
deteriorating economic conditions; operational risks including, but not limited
to, cybersecurity incidents, fraud, natural disasters and future pandemics;
expenses associated with pending litigation and legal proceedings; the failure
of the SBA to honor its guarantee of loans issued under the SBA PPP; the timing
of the repayment of SBA PPP loans and the impact it has on fee recognition; our
ability to convert new relationships gained through the SBA PPP efforts to full
banking relationships; and other risks and uncertainties, including those
detailed in our Annual Report on Form 10-K for the year ended December 31, 2020,
and our Quarterly Reports on Form 10-Q under the sections titled "Risk Factors"
and "Management's Discussion and Analysis of Financial Condition and Results of
Operations" and in other filings made with the SEC. The statements are valid
only as of the date hereof and we disclaim any obligation to update this
information.
Economic Climate and Market Conditions
Preliminary real GDP for the third quarter of 2021 reflected an annualized
increase of 2.0%. This is a decrease from the second quarter 2021 growth rate of
6.7% and annualized growth of 4.3% for the fourth quarter of 2020. The decrease
in the third quarter was driven by tapering in personal consumption expenditures
of goods, notably motor vehicles and parts, and a slowdown in food services and
accommodations from recent quarters. In the second quarter of 2021, the increase
in the rate reflected the reopening of businesses and ongoing government efforts
related to COVID-19, yet during the third quarter, new restrictions and delays
have occurred in certain regions of the country resulting from an increase in
COVID-19 cases. Also, during the third quarter, there was a decrease in federal
government spending on unemployment insurance, payments to households
established in response to the COVID-19 pandemic and the expiration of
processing and administration of PPP loan
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applications. Offsetting these decreases were increases in wholesale and retail
trade and services related to transportation and health care. The national
unemployment rate declined to 4.8% in September 2021 from 5.9% in June 2021 and
from 6.7% in December 2020. There were notable job gains in leisure and
hospitality, education, professional and business services, retail trade and
transportation and warehousing.
Due to the COVID-19 pandemic, market interest rates have declined significantly,
with the 10-year Treasury bond falling for the first time below 1.00% on March
3, 2020; it was at 0.93% on December 31, 2020 and has since recovered to 1.49%
as of September 30, 2021. In 2020, in reaction to the increase in uncertainty,
the Federal Reserve cut the Fed Funds rates by 150 basis points to 0% to 0.25%.
In its most recent meeting in September 2021, the Federal Reserve Open Markets
Committee left the Fed Funds rate unchanged with rates expected to remain at
this level for an extended period of time. The Committee recognized the progress
with vaccinations to reduce the spread of the COVID-19 virus and its effect on
economic activity and employment. However, uncertainty remains with respect to
the economic outlook. The Committee has indicated that they will not increase
rates until the recovery achieves maximum employment and inflation has reached
2% and longer-term inflation expectations are maintained above 2%. Also, the
Committee has directed the Open Markets Desk to increase its holdings of U.S.
Treasury securities and agency mortgage-backed securities to sustain smooth
functioning of markets for these securities. These low interest rates and other
effects of the COVID-19 pandemic may adversely affect the Company's financial
condition and results of operations in future periods. It is unknown how long
the adverse conditions associated with the COVID-19 pandemic will last and what
the complete financial effect will be to the Company. It is reasonably
foreseeable that estimates made in the financial statements could be materially
and adversely impacted in the near term as a result of these conditions,
including expected credit losses on loans and the fair value of financial
instruments that are carried at fair value.

Critical Accounting Estimates
The Company's accounting and reporting policies are in accordance with GAAP and
follow accounting and reporting guidelines prescribed by bank regulatory
authorities and general practices within the financial services industry in
which it operates. Our financial position and results of operations are affected
by management's application of accounting policies, including estimates, and
assumptions and judgments that affect the amounts reported in the consolidated
financial statements and accompanying notes. These estimates, assumptions, and
judgments are based on information available as of the balance sheet date and
through the date the financial statements are filed with the SEC. Different
assumptions in the application of these policies could result in material
changes in the consolidated financial position and/or consolidated results of
operations and related disclosures. The more critical accounting estimates
include accounting for credit losses and valuation methodologies. Accordingly,
these critical accounting estimates are discussed in detail in "Management's
Discussion and Analysis of Financial Condition and Results of Operations" in our
Annual Report on Form 10-K for the year ended December 31, 2020. Significant
accounting policies and any changes in accounting principles and effects of new
accounting pronouncements are discussed in Note 1, Summary of Significant
Accounting Policies, to the Consolidated Financial Statements under Part II,
Item 8, "Financial Statements and Supplementary Data," in our Annual Report on
Form 10-K for the year ended December 31, 2020. Additional disclosures regarding
the effects of new accounting pronouncements are included in this report in Note
1, Summary of Significant Accounting Policies, to the unaudited condensed
consolidated financial statements under Part I, Item 1, "Financial Information."

RESULTS OF OPERATIONS
Three months ended September 30, 2021 compared with three months ended
September 30, 2020
Summary
Net income totaled $7.2 million for the three months ended September 30, 2021
compared with net income of $5.0 million for the same period in 2020. Diluted
earnings per share for the three months ended September 30, 2021 totaled $0.65
compared with $0.45 for the three months ended September 30, 2020. Net interest
income totaled $20.6 million for the three months ended September 30, 2021, a
$0.2 million decrease from $20.8 million in the three months ended September 30,
2020. Noninterest income totaled $7.7 million for the three months ended
September 30, 2021 compared with $6.9 million in the three months ended
September 30, 2020. Noninterest expenses totaled $19.0 million and $19.3 million
for the three months ended September 30, 2021 and 2020, respectively.
Net Interest Income
Net interest income decreased by $0.2 million, from $20.8 million to $20.6
million, for the three months ended September 30, 2021 compared with the three
months ended September 30, 2020. Interest income on loans decreased by $1.7
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million, from $21.6 million to $19.9 million, and investment securities interest
income decreased by $0.4 million, from $2.6 million to $2.2 million. These
decreases were mostly offset by the decrease of $1.8 million in total interest
expense from $3.4 million to $1.6 million in comparing the three months ended
September 30, 2021 with the three months ended September 30, 2020.
The following table presents net interest income, net interest spread and net
interest margin for the three months ended September 30, 2021 and 2020 on a
taxable-equivalent basis:
                                                  Three Months Ended September 30, 2021                               Three Months Ended September 30, 2020
                                                               Taxable-               Taxable-                                     Taxable-               Taxable-
                                          Average             Equivalent             Equivalent               Average             Equivalent             Equivalent
                                          Balance              Interest                 Rate                  Balance              Interest                 Rate
Assets
Federal funds sold & interest-bearing
bank balances                         $    347,242          $       135                     0.15  %       $     31,087          $         9                     0.12  %

Investment securities (1)                  464,417                2,339                     2.00               496,107                2,673                     2.14

Loans (1)(2)(3)                          1,919,926               19,945                     4.12             2,054,193               21,741                     4.21
Total interest-earning assets            2,731,585               22,419                     3.26             2,581,387               24,423                     3.76

Other assets                               195,089                                                             190,119

Total                                 $  2,926,674                                                        $  2,771,506
Liabilities and Shareholders' Equity
Interest-bearing demand deposits      $  1,411,243                  286                     0.08          $  1,213,208                  939                     0.31
Savings deposits                           209,112                   53                     0.10               168,377                   67                     0.16
Time deposits                              349,215                  598                     0.68               432,438                1,477                     1.36
Total interest-bearing deposits          1,969,570                  937                     0.19             1,814,023                2,483             

0.54

Securities sold under agreements to
repurchase                                  23,578                    8                     0.13                21,145                   20                     0.38
FHLB Advances and other                     45,071                  123                     1.09               219,567                  394                     0.71
Subordinated notes                          31,938                  503                     6.29                31,881                  501                     6.29
Total interest-bearing liabilities       2,070,157                1,571                     0.30             2,086,616                3,398             

0.65

Noninterest-bearing demand deposits        548,923                                                             417,939
Other                                       38,409                                                              37,330
Total liabilities                        2,657,489                                                           2,541,885
Shareholders' equity                       269,185                                                             229,621
Total                                 $  2,926,674                                                        $  2,771,506
Taxable-equivalent net interest
income /net interest spread                                      20,848                     2.96  %                                  21,025                     3.12  %
Taxable-equivalent net interest
margin                                                                                      3.03  %                                                             3.24  %
Taxable-equivalent adjustment                                      (228)                                                               (207)
Net interest income                                         $    20,620                                                         $    20,818

NOTES ON THE ANALYSIS OF NET INTEREST INCOME:

                        Yields and interest income on tax-exempt assets 

were calculated on a taxable equivalent

          (1)           basis assuming a 21% tax rate.
          (2)           Average balances include nonaccrual loans.
          (3)           Interest income on loans includes prepayment and late fees.



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For the three months ended September 30, 2021, taxable-equivalent basis net
interest income decreased by $177 thousand compared with the three months ended
September 30, 2020. The decrease in net interest income reflected a decline in
taxable-equivalent interest income of $1.8 million, offset by a decrease of $1.8
million in interest expense on interest-bearing liabilities from the three
months ended September 30, 2020 to the three months ended September 30, 2021.
Average interest-earning assets increased by $150.2 million due to an increase
in average cash and average interest-bearing liabilities decreased by $16.5
million from the three months ended September 30, 2020 to the three months ended
September 30, 2021.
For the three months ended September 30, 2021, taxable-equivalent net interest
margin was 3.03%, which was 21 basis points lower than 3.24% for the three
months ended September 30, 2020. This reduction was driven by an increase in
average cash of $316.2 million, lower purchase accounting accretion of $835
thousand and reduced yield on investment securities. The increase in liquidity
has resulted from SBA PPP forgiveness, child tax credits and a seasonal inflow
of municipal deposit funds, which continue to negatively impact net interest
margin.
The yield on loans was 4.12% for the three months ended September 30, 2021
compared to 4.21% for the three months ended September 30, 2020.
Taxable-equivalent interest income earned on loans decreased by $1.8 million
year-over-year due primarily to consumer loan runoff and lower purchase
accounting accretion partially offset by the impact of SBA PPP forgiveness.
There was a $134.3 million decrease in average loan balance year-over-year.
Average residential mortgages decreased by $81.0 million from $284.0 million for
the three months ended September 30, 2020 to $203.0 million for the three months
ended September 30, 2021 due to the competitive and low interest rate
environment since September 30, 2020. Average other consumer loans was $191.6
million for the three months ended September 30, 2021 compared to $217.3 million
for the three months ended September 30, 2020, which was a decrease of $25.7
million. Accretion of purchase accounting adjustments was $296 thousand for the
three months ended September 30, 2021 as compared to $861 thousand for the three
months ended September 30, 2020. The three months ended September 30, 2021 and
2020 included $154 thousand and $650 thousand, respectively, of accelerated
accretion related to the payoff of acquired loans. Average commercial loans,
excluding average SBA PPP loans, increased by $125.3 million from $1.1 billion
for the three months ended September 30, 2020 to $1.2 billion for the three
months ended September 30, 2021. New commercial loan originations in 2021 had a
lower yield than those in the existing portfolio.
SBA PPP loans, net of deferred fees and costs, averaged $303.2 million during
the three months ended September 30, 2021 as compared to $456.1 million in the
three months ended September 30, 2020. For both the three months ended
September 30, 2021 and September 30, 2020, interest income on loans included
$3.4 million of interest and net deferred fee income associated with the SBA PPP
loans. While the average balance of SBA PPP loans declined over the period, the
acceleration of net deferred fees in 2021 resulted in an increased yield on
those loans. Net deferred SBA PPP fees of $8.6 million remain at September 30,
2021. These net deferred fees are being recognized over the life of the loans,
which was originally between two and five years, but can be accelerated upon
satisfactorily completing forgiveness steps with the SBA.
Taxable-equivalent investment securities interest income decreased by $334
thousand year-over-year, with the taxable equivalent yield decreasing from 2.14%
for the three months ended September 30, 2020 to 2.00% for the three months
ended September 30, 2021. The 14 basis point decrease reflected the decreased
interest rate environment between years and certain repositioning within the
portfolio under the Company's asset/liability management strategies. Interest
income on securities was also impacted by a decrease of $31.7 million in the
average balance of securities from the three months ended September 30, 2020 to
the three months ended September 30, 2021 due primarily to the sale of
asset-backed securities during the three months ended September 30, 2021.
The cost of interest-bearing liabilities decreased by 35 basis points from 0.65%
for the three months ended September 30, 2020 to 0.30% for the three months
ended September 30, 2021. The average balance of interest-bearing deposits
increased by $155.5 million and the average balance of total borrowings
decreased by $172.0 million. The increase in average interest-bearing deposits
was due primarily to SBA PPP forgiveness since the prior year and an influx of
municipal deposits during the third quarter of 2021, which offset a decline in
certificates of deposits, due to maturities, and SBA PPP deposit usage. The cost
of total deposits was 0.15% for the three months ended September 30, 2021
compared to 0.44% for the three months ended September 30, 2020. Rate reductions
in 2021 combined with the maturity of higher yielding certificates of deposits
caused this decrease. Average borrowings declined due to repayments and
maturities of overnight borrowings.
Provision for Loan Losses
The Company continues to experience a low level of charge-offs and nonperforming
loans. A provision for loan losses of $365 thousand was recorded for the three
months ended September 30, 2021 due to commercial loan growth compared with $2.2
million for the same period in 2020. The provision recorded in the three months
ended September 30, 2020 was driven by an increase in qualitative factor
assumptions as a result of the COVID-19 pandemic. Due to continuing uncertainty
in the external environment, management increased the qualitative factors for
certain commercial loan segments in the Bank's
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allowance for loan loss analysis in the three months ended September 30, 2020.
During the three months ended September 30, 2021, the Company's COVID-19 related
reserve was reversed by $991 thousand as a result of the relative strength of
the economy and performance of the Bank's borrowers. As a result, the Company's
COVID-19 related reserve was reduced to zero at September 30, 2021. Net
recoveries in the three months ended September 30, 2021 totaled $219 thousand,
compared to net recoveries of $8 thousand in the comparable prior year period.
Additional information is included in the "Credit Risk Management" section
herein.
Noninterest Income
The following table compares noninterest income for the three months ended
September 30, 2021 and 2020:
                                          Three Months Ended September 30,              $ Change                 % Change
                                              2021                   2020               2021-2020               2021-2020
Service charges on deposit accounts   $             796          $      684          $        112                         16  %
Interchange income                                1,030                 900                   130                         14  %
Other service charges and fees                      197                 168                    29                         17  %
Swap fees                                            67                  95                   (28)                       (29) %
Trust and investment management
income                                            1,930               1,713                   217                         13  %
Brokerage income                                    987                 751                   236                         31  %
Mortgage banking activities                       1,333               1,985                  (652)                       (33) %

Income from life insurance                          569                 543                    26                          5  %
Other income                                        263                  35                   228                        651  %

Investment securities gains (losses)                479                 (13)                  492                      3,785  %
Total noninterest income              $           7,651          $    6,861          $        790                         12  %



The following factors contributed to the more significant changes in noninterest
income between the three months ended September 30, 2021 and 2020:
•Service charges on deposit accounts increased in 2021 following the
implementation of fee waivers in 2020 due to the COVID-19 pandemic and increased
deposit account activity associated with the re-opening of the economy in the
second quarter of 2021. In addition, cash management fees have increased between
periods due to an increase in client activity.
•Interchange income grew from 2020 to 2021 due to increased spending upon the
reopening of the economy and expanded usage of debit cards by consumers.
•Strong market conditions and the addition of new clients continue to drive
trust and investment management income and brokerage income. Assets under
management increased by $239 million from $1.6 billion at September 30, 2020 to
$1.8 billion at September 30, 2021.
•Mortgage banking income declined $652 thousand driven by reduced residential
mortgage production as refinancing activity slowed during the three months ended
September 30, 2021 as compared to the three months ended September 30, 2020.
Mortgage loans sold totaled $48.0 million in the third quarter of 2021 compared
with $72.8 million in the third quarter of 2020 resulting in a decrease in the
gain on sale of residential mortgages of $415 thousand, a decrease in the fair
value of residential mortgages held for sale and valuation of interest rate lock
commitments of $138 thousand and a decrease of $298 thousand in residential
mortgage servicing income, offset partially by the MSR valuation reserve
reversal of $43 thousand in the three months ended September 30, 2021 compared
to the impairment charge of $166 thousand in the three months ended
September 30, 2020.
•Other income increased due primarily to the recognition of tax credits of $230
thousand from the Bank's investment in solar renewable energy partnerships.
•Investment securities gains increased during the third quarter of 2021 from
$482 thousand in gains recorded from the sales of $72.8 million of asset-backed
securities.
•Other line items within noninterest income showed fluctuations between 2021 and
2020 attributable to normal business operations.
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Noninterest Expenses
The following table compares noninterest expenses for the three months ended
September 30, 2021 and 2020:
                                            Three Months Ended September 30,              $ Change                % Change
                                                2021                   2020              2021-2020               2021-2020
Salaries and employee benefits           $         11,498          $   10,695          $       803                        7.5  %
Occupancy                                           1,154               1,231                  (77)                      (6.3) %
Furniture and equipment                             1,220               1,203                   17                        1.4  %
Data processing                                       990                 958                   32                        3.3  %

Automated teller machine and interchange
fees                                                  294                 278                   16                        5.8  %
Advertising and bank promotions                       735                 197                  538                      273.1  %
FDIC insurance                                        218                 230                  (12)                      (5.2) %

Professional services                                 562                 603                  (41)                      (6.8) %
Directors' compensation                               155                 214                  (59)                     (27.6) %

Taxes other than income                                16                 453                 (437)                     (96.5) %
Intangible asset amortization                         314                 357                  (43)                     (12.0) %

Branch consolidation expenses                           -               1,310               (1,310)                         -  %

Other operating expenses                            1,879               1,536                  343                       22.3  %
Total noninterest expenses               $         19,035          $   19,265          $      (230)                      (1.2) %



The following factors contributed to the more significant changes in noninterest
expenses between the three months ended September 30, 2021 and 2020:
•Salaries and employee benefits increased for the three months ended
September 30, 2021 compared to the three months ended September 30, 2020 due
primarily to increases in performance-based incentives, additions to personnel
and higher benefit costs.
•Advertising and bank promotions increased by $538 thousand due to reduced
marketing efforts in 2020 due to the COVID-19 pandemic and the recognition of
Pennsylvania Educational Improvement Tax Credit ("EITC") contributions in the
three months ended September 30, 2021.
•Taxes other than income decreased by $437 thousand due to tax credits recorded
from the EITC contributions in the three months ended September 30, 2021.
•Intangible asset amortization decreased principally due to the elimination of a
customer intangible associated with the discontinuance of Wheatland Advisors,
Inc. on July 31, 2020 and full amortization of a covenant not to compete in
2020.
•Branch consolidation expenses were $1.3 million for the three months
September 30, 2020 related to the consolidation of six branches and three loan
production offices. There were no similar charges for the three months ended
September 30, 2021.
•Other operating expenses increased by $343 thousand due to a loss of $514
thousand from the termination of an interest rate derivative designated as a
cash flow hedge recorded in the three months ended September 30, 2021, partially
offset by a decrease of $172 thousand in the reserve for unfunded commitments
from the three months ended September 30, 2020. A review of historical loss and
line utilization experience resulted in no provision expense in the three months
ended September 30, 2021.
•Other line items within noninterest expenses showed fluctuations between 2021
and 2020 attributable to normal business operations.



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Income Tax Expense
Income tax expense totaled $1.7 million, an effective tax rate of 18.9%, for the
three months ended September 30, 2021, compared with $1.2 million, an effective
tax rate of 19.9%, for the three months ended September 30, 2020. The Company's
effective tax rate is less than the 21% federal statutory rate, principally due
to tax-free income, which includes interest income on tax-free loans and
securities and income from life insurance policies, federal income tax credits,
and the impact of non-tax deductible expenses. The difference in the effective
tax rate from the three months ended September 30, 2020 to the three months
ended September 30, 2021 was due primarily to an increase in estimated earnings
before income taxes for which the impact was reflected in the three months ended
September 30, 2020.

Nine months ended September 30, 2021 compared with nine months ended
September 30, 2020
Summary
Net income totaled $26.2 million for the nine months ended September 30, 2021
compared with net income of $16.4 million for the same period in 2020. Diluted
earnings per share for the nine months ended September 30, 2021 totaled $2.36,
compared with $1.49 for the nine months ended September 30, 2020. Net interest
income positively influenced results of operations, and totaled $64.4 million
for the nine months ended September 30, 2021, as compared to $59.9 million in
the nine months ended September 30, 2020. Noninterest income totaled $21.9
million for the nine months ended September 30, 2021 compared with $21.1 million
in the nine months ended September 30, 2020. Noninterest expenses totaled $53.9
million and $56.0 million for the nine months ended September 30, 2021 and 2020,
respectively.
The comparability of operating results for 2021 with 2020 have generally been
impacted by the SBA PPP loans and related deposits.
Net Interest Income
Net interest income increased by $4.5 million, from $59.9 million to $64.4
million, for the nine months ended September 30, 2021 compared with the nine
months ended September 30, 2020. Total interest expense decreased from $13.3
million to $5.4 million, in comparing the nine months ended September 30, 2021
with the nine months ended September 30, 2020. Interest income on loans
decreased by $881 thousand, from $63.6 million to $62.7 million, and investment
securities interest income decreased by $2.7 million, from $9.5 million to $6.8
million for the same period.
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The following table presents net interest income, net interest spread and net
interest margin for the nine months ended September 30, 2021 and 2020 on a
taxable-equivalent basis:
                                                  Nine Months Ended September 30, 2021                                Nine Months Ended September 30, 2020
                                                               Taxable-               Taxable-                                     Taxable-               Taxable-
                                          Average             Equivalent             Equivalent               Average             Equivalent             Equivalent
                                          Balance              Interest                 Rate                  Balance              Interest                 Rate
Assets
Federal funds sold & interest-bearing
bank balances                         $    261,697          $       255                     0.13  %       $     27,315          $       101                     0.49  %

Investment securities (1)                  456,919                7,272                     2.13               496,977                9,797                     2.63

Loans (1)(2)(3)                          1,988,834               62,895                     4.23             1,899,186               63,940                     4.50
Total interest-earning assets            2,707,450               70,422                     3.48             2,423,478               73,838                     4.07

Other assets                               188,924                                                             193,057

Total                                 $  2,896,374                                                        $  2,616,535
Liabilities and Shareholders' Equity
Interest-bearing demand deposits      $  1,380,241                1,014                     0.10          $  1,113,740                4,100                     0.49
Savings deposits                           197,792                  149                     0.10               160,133                  194                     0.16
Time deposits                              376,142                2,247                     0.80               466,032                5,853                     1.68
Total interest-bearing deposits          1,954,175                3,410                     0.23             1,739,905               10,147             

0.78

Securities sold under agreements to
repurchase                                  22,490                   25                     0.15                17,395                   72                     0.55
FHLB Advances and other                     53,608                  458                     1.14               194,197                1,604                     1.10
Subordinated notes                          31,924                1,507                     6.29                31,867                1,504                     6.29
Total interest-bearing liabilities       2,062,197                5,400                     0.35             1,983,364               13,327             

0.90

Noninterest-bearing demand deposits        537,247                                                             373,614
Other                                       37,413                                                              35,874
Total liabilities                        2,636,857                                                           2,392,852
Shareholders' equity                       259,517                                                             223,683
Total                                 $  2,896,374                                                        $  2,616,535
Taxable-equivalent net interest
income /net interest spread                                      65,022                     3.13  %                                  60,511                     3.17  %
Taxable-equivalent net interest
margin                                                                                      3.21  %                                                             3.34  %
Taxable-equivalent adjustment                                      (646)                                                               (633)
Net interest income                                         $    64,376                                                         $    59,878

NOTES ON THE ANALYSIS OF NET INTEREST INCOME:

                        Yields and interest income on tax-exempt assets 

were calculated on a taxable equivalent

          (1)           basis assuming a 21% tax rate.
          (2)           Average balances include nonaccrual loans.
          (3)           Interest income on loans includes prepayment and late fees.



For the nine months ended September 30, 2021, taxable-equivalent basis net
interest income increased by $4.5 million compared with the nine months ended
September 30, 2020. This increase reflected an increase of $284.0 million in
average interest-earning assets due to an increase in average cash, partially
offset by an increase of $78.8 million in average interest-bearing liabilities
from the nine months ended September 30, 2020 to the nine months ended
September 30, 2021. These balances increased primarily due to the SBA PPP loans
originated from April 2020 to May 2021.
Taxable-equivalent net interest margin was 3.21% for the nine months ended
September 30, 2021, which was 13 basis points lower than 3.34% for the nine
months ended September 30, 2020. This reduction was driven by an increase in
average cash of $234.4 million, lower purchase accounting accretion of $1.9
million and reduced yields on investment securities.

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The yield on loans was 4.23% for the nine months ended September 30, 2021
compared to 4.50% for the nine months ended September 30, 2020.
Taxable-equivalent interest income earned on loans decreased by $1.0 million
year-over-year despite an increase in the average balance of commercial loans of
$210.2 million. The decline in the yield on total loans reflects the impact from
an increase in average SBA PPP loans, which have a 1% note rate, and the payoff
of higher yielding loans with new loan originations at lower interest rates.
SBA PPP loans, net of deferred fees and costs, averaged $412.2 million during
the nine months ended September 30, 2021 as compared to $269.8 million in the
nine months ended September 30, 2020. Partially offsetting the increase in loans
from SBA PPP were decreases in average consumer loans due to runoff and average
residential mortgage loans during the period due to the competitive and low
interest rate environment. Average consumer loans decreased by $22.0 million
from $63.4 million for the nine months ended September 30, 2020 to $41.4 million
for the nine months ended September 30, 2021. Average residential mortgages were
$216.9 million for the nine months ended September 30, 2021, a decrease of $89.2
million from $306.1 million for the nine months ended September 30, 2020.
For the nine months ended September 30, 2021, interest income on loans includes
$13.0 million of interest and net deferred fee income recognized associated with
the SBA PPP loans compared to $6.1 million for the nine months ended
September 30, 2020. Net deferred fees of $8.6 million remain at September 30,
2021, which will be recognized over the life of the loans that was originally
between two and five years, but can be accelerated upon satisfactorily
completing forgiveness steps with the SBA. Accretion of purchase accounting
adjustments was $1.4 million for the nine months ended September 30, 2021 as
compared to $2.5 million for the nine months ended September 30, 2020. The nine
months ended September 30, 2021 and 2020 included $919 thousand and $1.4
million, respectively, of accelerated accretion related to the payoff of
acquired loans.
Taxable-equivalent securities interest income decreased by $2.5 million
year-over-year, with the taxable equivalent yield decreasing from 2.63% for the
nine months ended September 30, 2020 to 2.13% for the nine months ended
September 30, 2021. The 50 basis point decrease reflected the decreased interest
rate environment between years and certain repositioning within the portfolio
under the Company's asset/liability management strategies. Interest income on
securities was also impacted by the decrease of $40.1 million in the average
balance of securities from the nine months ended September 30, 2020 to the nine
months ended September 30, 2021 due primarily to the sale of the non-agency CMBS
portfolio during the nine months ended September 30, 2021.
Interest expense on deposits and borrowings decreased by $7.9 million
year-over-year, with the average balance of interest-bearing deposits increasing
by $214.3 million and the average balance of total borrowings decreasing by
$135.4 million. The increase in average interest-bearing deposits was due
primarily to the SBA PPP forgiveness since the prior year, which was partially
offset by maturities of certificates of deposits. The decrease in average
borrowings was due to maturities and repayments of overnight borrowings. There
was a decrease of 55 basis points in the cost of interest-bearing liabilities,
which was driven by rate reductions in 2021 as well as maturities of higher
yielding certificates of deposits. The balance of deposits associated with the
SBA PPP loans are expected to decline into the second half of 2021 as the funds
are drawn by the borrowers.
Provision for Loan Losses
The Company continues to experience a low level of charge-offs and nonperforming
loans. The provision for loan losses was negative $10 thousand for the nine
months ended September 30, 2021 compared with expense of $5.0 million for the
same period in 2020. The provision recorded in the nine months ended
September 30, 2020 was driven by an increase in qualitative factor assumptions
as a result of the COVID-19 pandemic. The negative provision recorded in the
nine months ended September 30, 2021 was due to the release of $2.7 million of
the Company's COVID-19 related reserves, as the credit performance was strong in
the past year following the re-opening of the economy. As a result, the
Company's COVID-19 reserve was reduced to zero at September 30, 2021. Offsetting
the impact to the provision for loan losses from the decrease in the COVID-19
qualitative factors was an increase in the provision expense from commercial
loan production. Net charge-offs in the nine months ended September 30, 2021
totaled $176 thousand, as compared to net recoveries of $45 thousand in the
comparable prior year period. Nonaccrual loans were 0.47% of gross loans at
September 30, 2021, compared with 0.39% of gross loans at September 30, 2020.
Nonaccrual loans increased by $1.2 million from September 30, 2020 to
September 30, 2021; however, classified loans decreased by $9.5 million to $26.9
million from September 30, 2020 to September 30, 2021.
Additional information is included in the "Credit Risk Management" section
herein.
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Noninterest Income
The following table compares noninterest income for the nine months ended
September 30, 2021 and 2020:
                                          Nine Months Ended September 30,              $ Change                 % Change
                                             2021                   2020               2021-2020               2021-2020

Service charge on deposit accounts $ 2,231 $ 2,085

         $        146                          7  %
Interchange income                               3,049               2,507                   542                         22  %
Other service charges and fees                     527                 473                    54                         11  %
Swap fees                                          135                 527                  (392)                       (74) %
Trust and investment management
income                                           5,862               5,049                   813                         16  %
Brokerage income                                 2,708               2,069                   639                         31  %
Mortgage banking activities                      4,684               3,926                   758                         19  %
Gain on sale of portfolio loans                      -               2,803                (2,803)                      (100) %
Income from life insurance                       1,690               1,615                    75                          5  %
Other income                                       338                 118                   220                        186  %

Investment securities gains (losses)               635                 (44)                  679                      1,543  %
Total noninterest income              $         21,859          $   21,128          $        731                          3  %



The following factors contributed to the more significant changes in noninterest
income between the nine months ended September 30, 2021 and 2020:
•Service charges on deposit accounts increased in 2021 following the
implementation of fee waivers in 2020 due to the COVID-19 pandemic and increased
deposit account activity associated with the re-opening of the economy in the
second quarter of 2021.
•Interchange income grew from 2020 to 2021 due to increased spending upon the
reopening of the economy and expanded usage of debit cards by consumers.
•Swap fees declined due to less interest from potential clients in a low
interest rate environment. Swap fee income fluctuates based on the number of
transactions entered into in a period.
•Strong market conditions and the addition of new clients continue to drive
trust and investment management income and brokerage income. Assets under
management increased by $239 million from $1.6 billion at September 30, 2020 to
$1.8 billion at September 30, 2021.
•Mortgage banking income increased by $758 thousand due to an MSR valuation
reserve reversal of $695 thousand in the nine months ended September 30, 2021
compared to an MSR impairment charge of $986 thousand in the nine months ended
September 30, 2020, which was driven by significant market interest rate
reductions caused by the COVID-19 pandemic. This was partially offset by a
decrease of $1.1 million in the fair value of the residential mortgages held for
sale and valuation of interest rate lock commitments attributed to reduced
production due to less refinancing activity and the impact of higher rates on
the valuations during the nine months ended September 30, 2021 as compared to
the nine months ended September 30, 2020. Refinance activity was strong in the
second and third quarters of 2020 due to the decrease in interest rates, and the
gain on sale margin increased.
•During the nine months ended September 30, 2020, the Bank recorded $2.8 million
in gains due to the sale of $10.9 million of classified loans for net gains of
$2.5 million, and the sale of an $11.0 million portfolio of recreational vehicle
loans for a gain of $314 thousand.
•Other income increased due primarily to the recognition of tax credits of $230
thousand from the Bank's investment in solar renewable energy partnerships in
the nine months ended September 30, 2021.
•During the nine months ended September 30, 2021, the Company recorded net
investment securities gains of $635 thousand from the sales of $148.4 million of
commercial mortgage-backed securities and asset-backed securities. There were no
sales of debt securities during the nine months ended September 30, 2020.
•Other line items within noninterest income showed fluctuations between 2021 and
2020 attributable to normal business operations.
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Non-interest expenses The following table compares the non-interest expenses for the nine months ended
September 30, 2021 and 2020:

                                             Nine Months Ended September 30,              $ Change                % Change
                                                2021                   2020              2021-2020               2021-2020
Salaries and employee benefits           $         31,907          $   32,352          $      (445)                      (1.4) %
Occupancy                                           3,492               3,480                   12                        0.3  %
Furniture and equipment                             3,800               3,569                  231                        6.5  %
Data processing                                     3,041               2,620                  421                       16.1  %

Automated teller machine and interchange
fees                                                  862                 778                   84                       10.8  %
Advertising and bank promotions                     1,434               1,153                  281                       24.4  %
FDIC insurance                                        570                 491                   79                       16.1  %

Professional services                               1,862               2,340                 (478)                     (20.4) %
Directors' compensation                               624                 679                  (55)                      (8.1) %

Taxes other than income                               929                 904                   25                        2.8  %
Intangible asset amortization                         972               1,224                 (252)                     (20.6) %

Branch consolidation expenses                           -               1,310               (1,310)                         -  %
Insurance claim receivable recovery                     -                (486)                 486                     (100.0) %
Other operating expenses                            4,358               5,586               (1,228)                     (22.0) %
Total noninterest expenses               $         53,851          $   56,000          $    (2,149)                      (3.8) %



The following factors contributed to the more significant changes in noninterest
expenses between the nine months ended September 30, 2021 and 2020:
•The decrease in salaries and employee benefits from 2020 to 2021 was driven by
reduced staffing as a result of the prior year's restructurings.
•Data processing expenses increased by $421 thousand due primarily to increased
core system costs and trust data processing activity.
•Advertising and bank promotions increased by $281 thousand due to increased
marketing efforts from the post-pandemic environment.
•The increase in FDIC insurance expense reflects the increase in FDIC
assessments during 2021 compared to 2020, which is impacted by credits in the
nine months ended September 30, 2020 that did not recur in 2021.
•Professional services decreased by $478 thousand due to legal costs incurred in
the nine months ended September 30, 2020 in connection with the SEPTA
litigation.
•Intangible asset amortization decreased principally due to the elimination of a
customer intangible associated with the discontinuance of Wheatland Advisors,
Inc. on July 31, 2020 and full amortization of a covenant not to compete in
2020.
•Branch consolidation expenses were $1.3 million for the nine months
September 30, 2020 related to the consolidation of six branches and three loan
production offices. There were no similar charges for the nine months
September 30, 2021.
•During the nine months ended September 30, 2020, $486 thousand of refunds were
received from an insurance company related to a 2018 cyber security incident.
•Other operating expenses declined by $1.2 million primarily due to a reduction
in the reserve for unfunded commitments of $340 thousand and a reduction of $724
thousand in expenses associated with the sale of a property recorded in the nine
months ended September 30, 2020. For the nine months ended September 30, 2020,
the reserve for unfunded commitments was higher due to increased qualitative
factors from the COVID-19 pandemic, which were reversed in 2021 following a
review of historical loss and line utilization experience. This was partially
offset by the loss of $514 thousand from the termination of the interest rate
derivative designated as a cash flow hedge during the nine months September 30,
2021.
•Other line items within noninterest expenses showed fluctuations between 2021
and 2020 attributable to normal business operations.
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Income Tax Expense
Income tax expense totaled $6.2 million, an effective tax rate of 19.2%, for the
nine months ended September 30, 2021 compared with $3.6 million, an effective
tax rate of 17.9%, for the nine months ended September 30, 2020. The Company's
effective tax rate is less than the 21% federal statutory rate, principally due
to tax-free income, which includes interest income on tax-free loans and
securities and income from life insurance policies, federal income tax credits,
and the impact of non-tax deductible expenses. The difference in the effective
tax rate from the nine months ended September 30, 2020 to the nine months ended
September 30, 2021 was due primarily to higher estimated earnings before income
taxes for the 2021 fiscal year.

FINANCIAL CONDITION
Management devotes substantial time to overseeing the investment of funds in
loans and investment securities and the formulation of policies directed toward
the profitability and management of the risks associated with these investments.
Investment Securities
The Company utilizes investment securities to manage interest rate risk, to
enhance income through interest and dividend income, to provide liquidity and to
provide collateral for certain deposits and borrowings. At September 30, 2021,
securities available for sale totaled $445.0 million, a decrease of $21.4
million, from $466.5 million at December 31, 2020. During the nine months ended
September 30, 2021, the Company sold $148.4 million of commercial
mortgage-backed securities and asset-backed securities for a net gain of $609
thousand, and purchased $156.9 million of mortgage-backed securities, municipal
securities and United States Treasury notes.
During the nine months ended September 30, 2021 and 2020, the Company recorded a
gain of $26 thousand and a loss of $44 thousand, respectively, due to market
value adjustments on an equity security. The balance of investment securities
included net unrealized gains of $7.2 million at September 30, 2021 as compared
to net unrealized gains of $5.5 million at December 31, 2020. This increase
reflects the impact of improved market rates on the Company's investment
security portfolio.
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The following table summarizes the credit ratings and collateral associated with
the Company's investment portfolio, excluding equity securities, at
September 30, 2021:
         Sector           Portfolio Mix    Amortized Book    Fair Value   Credit Enhancement      AAA         AA          A        BBB        NR          Collateral Type
Unsecured ABS                       1  % $         3,103    $    3,159                  31  %        -  %        -  %      -  %      -  %      100  % Unsecured Consumer Debt
Student Loan ABS                    2              9,385         9,367                  18           -           -         -         -         100    Seasoned Student Loans
Federal Family Education                                                                                                                              Federal Family
Loan ABS                           23            101,309       101,383                   5          67          27         5         -           -    Education Loan (1)
PACE Loan ABS                       1              3,880         3,969                   5         100           -         -         -           -    PACE Loans

Non-Agency RMBS                     6             25,929        25,657                  49         100           -         -         -           -    Reverse Mortgages (2)
Municipal - General
Obligation                         21             93,094        97,365                               7          86         7         -           -
Municipal - Revenue                18             81,145        84,156                               -          76        12         -          13
SBA ReRemic                         2              9,049         9,029                               -         100         -         -           -    SBA Guarantee (3)
                                                                                                                                                      Residential Mortgages
Agency MBS                         21             90,474        90,705                               -         100         -         -           -    (3)
U.S. Treasury securities            5             20,087        19,831                               -         100         -         -           -
Bank CDs                            -                249           249                               -           -         -         -         100    FDIC Insured CD
                                  100  % $       437,704    $  444,870                              24  %       66  %      5  %      -  %        5  %

(1) Minimum of 97% guaranteed by U.S. government
(2) Reverse mortgages fund over time, credit enhancement is estimated based on prior experience
(3) 100% guaranteed by U.S. government agencies

Note: The ratings in the table are the lowest of the six rating agencies (Standard & Poor’s, Moody’s, Morningstar, DBRS, KBRA and Fitch). Standard & Poor’s rates we government bonds at AA +


Loan Portfolio
The Company offers a variety of products to meet the credit needs of its
borrowers, principally commercial real estate loans, commercial and industrial
loans, and retail loans consisting of loans secured by residential properties,
and to a lesser extent, installment loans. No loans are extended to non-domestic
borrowers or governments.
The risks associated with lending activities differ among loan classes and are
subject to the impact of changes in interest rates, market conditions of
collateral securing the loans and general economic conditions. Any of these
factors may adversely impact a borrower's ability to repay loans, and also
impact the associated collateral. See Note 3, Loans and Allowance for Loan
Losses, to the unaudited condensed consolidated financial statements under Part
I, Item 1, "Financial Information," for a description of the Company's loan
classes and differing levels of associated credit risk.
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The following table shows the loan portfolio, excluding residential LHFS, by segment and class at September 30, 2021 and December 31, 2020:

                                        September 30,       December 31,
                                             2021               2020
Commercial real estate:
Owner occupied                         $      196,585      $    174,908
Non-owner occupied                            509,703           409,567
Multi-family                                  112,002           113,635
Non-owner occupied residential                100,088           114,505
Acquisition and development:
1-4 family residential construction            12,246             9,486
Commercial and land development                71,784            51,826
Commercial and industrial (1)                 540,205           647,368
Municipal                                      13,631            20,523
Residential mortgage:
First lien                                    203,360           244,321
Home equity - term                              7,079            10,169
Home equity - lines of credit                 154,004           157,021
Installment and other loans                    19,077            26,361
                                       $    1,939,764      $  1,979,690


(1) This balance includes $259.9 million and $403.3 million of SBA PPP loans at
September 30, 2021 and December 31, 2020, respectively.
Total loans declined by $39.9 million from December 31, 2020 to September 30,
2021. This decrease is due primarily to SBA PPP loan forgiveness of $376.0
million in the nine months ended September 30, 2021 and payoffs in the
residential mortgage loan and installment and other loan portfolios, offset by
commercial loan production, excluding SBA PPP loans, of $157.9 million during
the nine months ended September 30, 2021. Overall loan growth, excluding SBA PPP
loans, was 7% for the nine months ended September 30, 2021.
Asset Quality
Risk Elements
The Company's loan portfolio is subject to varying degrees of credit risk.
Credit risk is managed through our underwriting standards, on-going credit
reviews, and monitoring of asset quality measures. Additionally, loan portfolio
diversification, which limits exposure to a single industry or borrower, and
collateral requirements also mitigate our risk of credit loss.
The loan portfolio consists principally of loans to borrowers in south central
Pennsylvania and the greater Baltimore, Maryland region. As the majority of
loans are concentrated in these geographic regions, a substantial portion of the
borrowers' ability to honor their obligations may be affected by the level of
economic activity in the market areas.
Nonperforming assets include nonaccrual loans and foreclosed real estate. In
addition, restructured loans still accruing and loans past due 90 days or more
and still accruing are also deemed to be risk assets. For all loan classes, the
accrual of interest income generally ceases when principal or interest is past
due 90 days or more and collateral is inadequate to cover principal and interest
or immediately if, in the opinion of management, full collection is unlikely.
Interest will continue to accrue on loans past due 90 days or more if the
collateral is adequate to cover principal and interest, and the loan is in the
process of collection. Interest accrued, but not collected, as of the date of
placement on nonaccrual status, is generally reversed and charged against
interest income, unless fully collateralized. Subsequent payments received are
either applied to the outstanding principal balance or recorded as interest
income, depending on management's assessment of the ultimate collectability of
principal. Loans are returned to accrual status, for all loan classes, when all
the principal and interest amounts contractually due are brought current, the
loans have performed in accordance with the contractual terms of the note for a
reasonable period of time, generally six months, and the ultimate collectability
of the total contractual principal and interest is reasonably assured. Past due
status is based on contract terms of the loan.
Loans, the terms of which are modified, are classified as TDRs if a concession
was granted for legal or economic reasons related to a borrower's financial
difficulties. Concessions granted under a TDR typically involve a temporary
deferral of scheduled loan payments, an extension of a loan's stated maturity
date, temporary reduction in interest rates, or below market rates. If a
modification occurs while the loan is on accruing status, it will continue to
accrue interest under the modified terms.
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Nonaccrual TDRs are restored to accrual status if scheduled principal and
interest payments, under the modified terms, are current for six months after
modification, and the borrower continues to demonstrate its ability to meet the
modified terms. TDRs are evaluated individually for impairment if they have been
restructured during the most recent calendar year, or if they are not performing
according to their modified terms.
The following table presents the Company's risk elements, including the
aggregate balances of nonaccrual loans, restructured loans still accruing, loans
past due 90 days or more, and OREO as of September 30, 2021 and December 31,
2020. Relevant asset quality ratios are also presented.
                                                                    September 30,          December 31,
                                                                         2021                  2020
Nonaccrual loans                                                   $       9,116          $     10,310
OREO                                                                           -                     -
Total nonperforming assets                                                 9,116                10,310
Restructured loans still accruing                                            839                   934
Loans past due 90 days or more and still accruing                            362                   554

Total non-performing assets and other risky assets (total risky assets) $ 10,317 $ 11,798
Loans 30 to 89 days past due

                                          $       1,534          $     10,291
Asset quality ratios:
Total nonaccrual loans to total loans                                       0.47  %               0.52  %
Total nonperforming assets to total assets                                  0.32  %               0.37  %
Total nonperforming assets to total loans and OREO                          0.47  %               0.52  %
Total risk assets to total loans and OREO                                   0.53  %               0.60  %
Total risk assets to total assets                                           0.36  %               0.43  %
ALL to total loans                                                          1.03  %               1.02  %
ALL to nonperforming loans                                                219.01  %             195.45  %

ALL to non-performing loans and restructured loans up to 200.55%

             179.22  %


Total nonperforming and other risk assets decreased by $1.5 million, or 12.6%,
from December 31, 2020 to September 30, 2021. There was a reduction of $1.2
million in non-accrual loans due to payment activity and a decrease of $192
thousand in loans past 90 days and still accruing from December 31, 2020 to
September 30, 2021.
The following table presents detail of impaired loans at September 30, 2021 and
December 31, 2020:
                                                 September 30, 2021                                            December 31, 2020
                                                      Restructured                                                 Restructured
                                 Nonaccrual           Loans Still                             Nonaccrual           Loans Still
                                   Loans                Accruing             Total              Loans                Accruing              Total
Commercial real estate:
Owner occupied                 $     3,806          $          26          

$ 3,832 $ 3,232 28 $ $ 3,260

Non-owner occupied residential         171                      -              171                  268                      -               268

Acquisition and development:

Commercial and land
development                              -                      -                -                  814                      -               814
Commercial and industrial            2,941                      -            2,941                3,639                      -             3,639
Residential mortgage:
First lien                           1,659                    813            2,472                1,730                    898             2,628
Home equity - term                       7                      -                7                   10                      -                10
Home equity - lines of credit          495                      -              495                  600                      8               608
Installment and other loans             37                      -               37                   17                      -                17
                               $     9,116          $         839          $ 9,955          $    10,310          $         934          $ 11,244


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The following table presents our exposure to borrowers with impaired loans, the partial write-offs taken to date and the specific reserves established on the borrowing relationships at the September 30, 2021 and December 31, 2020. Among the relationships deemed compromised in September 30, 2021, two had a recorded balance greater than $ 1.0 million, and 62, which represent 35.1% of total impaired loans, had balances below $ 250,000.

                                                                                                      Partial
                                                           # of                 Recorded            Charge-offs          Specific
                                                      Relationships            Investment             to Date            Reserves
September 30, 2021
Relationships greater than $1,000,000                         2             

$ 5,225 $ – $ – Relations greater than $ 500,000 but less than
$ 1,000,000

                                                    1                      619                    17                 -
Relationships greater than $250,000 but less than
$500,000                                                      2                      612                     -                 -
Relationships less than $250,000                             62                    3,499                   623                29
                                                             67             

$ 9,955 640 $ $ 29
the 31st of December, 2020 Relationships greater than $ 1,000,000

                         2             

$ 5,639 $ – $ – Relations greater than $ 500,000 but less than
$ 1,000,000

                                                    2                    1,211                    17                 -
Relationships greater than $250,000 but less than
$500,000                                                      2                      637                     -                 -
Relationships less than $250,000                             65                    3,757                   545                33
                                                             71              $    11,244          $        562          $     33



The Company takes partial charge-offs on collateral-dependent loans when
carrying value exceeds estimated fair value, as determined by the most recent
appraisal adjusted for current (within the quarter) conditions, less costs to
dispose. Impairment reserves remain in place if updated appraisals are pending,
and represent management's estimate of potential loss.
Internal loan reviews are completed annually on all commercial relationships
with a committed loan balance in excess of $1.0 million, which includes
confirmation of risk rating by an independent credit officer. In addition, all
relationships greater than $500 thousand rated Substandard, Doubtful or Loss are
reviewed and corresponding risk ratings are reaffirmed by the Bank's Problem
Loan Committee, with subsequent reporting to the Management ERM Committee.
In its individual loan impairment analysis, the Company determines the extent of
any full or partial charge-offs that may be required, or any reserves that may
be needed. The determination of the Company's charge-offs or impairment reserve
include an evaluation of the outstanding loan balance and the related collateral
securing the credit. Through a combination of collateral securing the loans and
partial charge-offs taken to date, the Company believes that it has adequately
provided for the potential losses that it may incur on these relationships at
September 30, 2021. However, over time, additional information may result in
increased reserve allocations or, alternatively, it may be deemed that the
reserve allocations exceed those that are needed.
In an effort to assist clients that were negatively impacted by the COVID-19
pandemic, the Bank offered various mitigation options, including a loan payment
deferral program. Under this program, most commercial deferrals were for a
90-day period, while most consumer deferrals were for a 180-day period. As of
September 30, 2021, the Company had loan deferrals under this program for
consumer clients with a total loan balance of $317 thousand. In accordance with
the revised Interagency Statement on Loan Modifications by Financial
Institutions Working with Customers Affected by the Coronavirus issued on April
7, 2020, these deferrals are exempt from TDR status as they meet the specified
requirements.
The following table summarizes outstanding COVID-19 related modifications,
including deferrals and forbearances at September 30, 2021 and December 31,
2020:
                                                 Amount of Loans                                       Percent of Non-PPP Loans
Loan Type                         September 30, 2021           December 31, 2020            September 30, 2021             December 31, 2020
Commercial                      $                 -          $           15,702                               -  %                      1.4  %
Consumer                                        317                       2,504                             0.1                         0.6
Total Loans                     $               317          $           18,206                               -  %                      1.2  %



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Credit Risk Management
Allowance for Loan Losses
The Company maintains the ALL at a level deemed adequate by management for
probable incurred credit losses. The ALL is established and maintained through a
provision for loan losses charged to earnings. Quarterly, management assesses
the adequacy of the ALL using a defined methodology which considers specific
credit evaluation of impaired loans, past loan loss historical experience and
qualitative factors. Management addresses the requirements for loans
individually identified as impaired, loans collectively evaluated for
impairment, and other bank regulatory guidance in its assessment.
The ALL is evaluated based on review of the collectability of loans in light of
historical experience; the nature and volume of the loan portfolio; adverse
situations that may affect a borrower's ability to repay; estimated value of any
underlying collateral; and prevailing economic conditions. This evaluation is
inherently subjective as it requires estimates that are susceptible to
significant revision as more information becomes available. A description of the
methodology for establishing the allowance and provision for loan losses and
related procedures in establishing the appropriate level of reserve is included
in Note 3, Loans and Allowance for Loan Losses, to the unaudited condensed
consolidated financial statements under Part I, Item 1, "Financial Information."
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The following table summarizes the Company’s internal risk ratings for
September 30, 2021 and December 31, 2020:

                                                  Special            Non-Impaired           Impaired -
                                Pass              Mention            Substandard            Substandard           Doubtful          PCI Loans             Total
September 30, 2021
Commercial real estate:
Owner occupied             $   176,029          $   8,219          $       6,147          $      3,832          $       -          $   2,358          $   196,585
Non-owner occupied             476,947             32,272                    168                     -                  -                316              509,703
Multi-family                    91,726             19,662                    614                     -                  -                  -              112,002
Non-owner occupied
residential                     95,338              2,028                  1,344                   171                  -              1,207              100,088
Acquisition and
development:
1-4 family residential
construction                    12,246                  -                      -                     -                  -                  -               12,246
Commercial and land
development                     70,648                636                    500                     -                  -                  -               71,784
Commercial and industrial      521,530              7,939                  5,505                 2,941                  -              2,290              540,205
Municipal                       13,631                  -                      -                     -                  -                  -               13,631
Residential mortgage:
First lien                     195,717                  -                    240                 2,472                  -              4,931              203,360
Home equity - term               7,056                  -                      -                     7                  -                 16                7,079
Home equity - lines of
credit                         153,436                 21                     52                   495                  -                  -              154,004
Installment and other
loans                           19,002                  -                      -                    37                  -                 38               19,077
                           $ 1,833,306          $  70,777          $      14,570          $      9,955          $       -          $  11,156          $ 1,939,764
December 31, 2020
Commercial real estate:
Owner occupied             $   148,846          $  12,491          $       7,855          $      3,260          $       -          $   2,456          $   174,908
Non-owner occupied             351,860             57,378                      -                     -                  -                329              409,567
Multi-family                    92,769             20,224                    642                     -                  -                  -              113,635
Non-owner occupied
residential                    107,557              3,948                  1,422                   268                  -              1,310              114,505
Acquisition and
development:
1-4 family residential
construction                     9,101                385                      -                     -                  -                  -                9,486
Commercial and land
development                     49,832                655                    525                   814                  -                  -               51,826
Commercial and industrial      617,213             17,561                  6,118                 3,639                  -              2,837              647,368
Municipal                       20,523                  -                      -                     -                  -                  -               20,523
Residential mortgage:
First lien                     236,381                  -                      -                 2,628                  -              5,312              244,321
Home equity - term              10,076                  -                     64                    10                  -                 19               10,169
Home equity - lines of
credit                         156,264                 95                     54                   608                  -                  -              157,021
Installment and other
loans                           26,283                  -                      -                    17                  -                 61               26,361
                           $ 1,826,705          $ 112,737          $      16,680          $     11,244          $       -          $  12,324          $ 1,979,690



Potential problem loans are defined as performing loans which have
characteristics that cause management concern over the ability of the borrower
to perform under present loan repayment terms and which may result in the
reporting of these loans as nonperforming loans in the future. Generally,
management feels that Substandard loans that are currently performing and not
considered impaired result in some doubt as to the borrower's ability to
continue to perform under the terms of the loan, and
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represent potential problem loans. Additionally, the Special Mention
classification is intended to be a temporary classification reflective of loans
that have potential weaknesses that may, if not monitored or corrected, weaken
the asset or inadequately protect the Company's position at some future date.
Special Mention loans represent an elevated risk, but their weakness does not
yet justify a more severe, or classified, rating. These loans require inquiry by
lenders on the cause of the potential weakness and, once analyzed, the loan
classification may be downgraded to Substandard or, alternatively, could be
upgraded to Pass. Special Mention loans decreased by $42.0 million from
December 31, 2020 to September 30, 2021 due to continued improvements in
economic conditions as COVID-19 restrictions are eased and government stimulus
drives increases in spending.
The following table summarizes activity in the ALL for the three and nine months
ended September 30, 2021 and 2020:
                                                                      Commercial                                                                         Consumer
                                                   Acquisition           Commercial
                             Commercial                and                  and                                                     Residential           Installment
                             Real Estate           Development           Industrial           Municipal            Total             Mortgage              and Other            Total            Unallocated            Total
Three Months Ended
September 30, 2021
Balance, beginning of
period                     $     11,315          $      1,243          $    

3 495 $ 29 $ 16,082 $ 2,863 $ 227 $ 3,090 $ 209 $ 19,381
Provision for loan losses (179)

                  290                  386                  (2)              495                  (147)                   18             (129)                   (1)              365

Charge-offs                         (89)                    -                  (55)                  -              (144)                    -                   (20)             (20)                    -              (164)
Recoveries                          305                     8                   60                   -               373                     5                     5               10                     -               383

Balance, end of period $ 11,352 $ 1,541 $

  3,886          $       27          $ 16,806          $      2,721          $        230          $ 2,951          $        208          $ 19,965
September 30, 2020
Balance, beginning of
period                     $      9,347          $      1,069          $    

2 916 $ 75 $ 13,407 $ 3,552 $ 386 $ 3,938 172 $ $ 17,517
Provision for loan losses 1,520

                  (219)                 963                 (19)            2,245                   (71)                   18              (53)                    8             2,200
Charge-offs                          (3)                    -                 (193)                  -              (196)                    -                   (31)             (31)                    -              (227)
Recoveries                          171                     -                   45                   -               216                     6                    13               19                     -               235

Balance, end of period $ 11,035 850 $ $

  3,731          $       56          $ 15,672          $      3,487          $        386          $ 3,873          $        180          $ 19,725
Nine Months Ended
September 30, 2021
Balance, beginning of
period                     $     11,151          $      1,114          $    

3 942 40 $ $ 16,247 $ 3,362 $ 324 $ 3,686 $ 218 $ 20,151
Allowance for loan losses

           133                   418                  109                 (13)              647                  (578)                  (69)            (647)                  (10)              (10)

Charge-offs                        (270)                    -                 (621)                  -              (891)                  (92)                  (49)            (141)                    -            (1,032)
Recoveries                          338                     9                  456                   -               803                    29                    24               53                     -               856

Balance, end of period $ 11,352 $ 1,541 $

  3,886          $       27          $ 16,806          $      2,721          $        230          $ 2,951          $        208          $ 19,965
September 30, 2020
Balance, beginning of
period                     $      7,634          $        959          $    

2 356 $ 100 $ 11,049 $ 3,147 $ 319 $ 3,466 140 $ $ 14,655
Provision for loan losses 2,780

                  (117)               1,875                 (44)            4,494                   329                   162              491                    40             5,025
Charge-offs                          (3)                    -                 (689)                  -              (692)                 (109)                 (117)            (226)                    -              (918)
Recoveries                          624                     8                  189                   -               821                   120                    22              142                     -               963

Balance, end of period $ 11,035 850 $ $

 3,731          $       56          $ 15,672          $      3,487          $        386          $ 3,873          $        180          $ 19,725



The ALL at September 30, 2021, decreased by $186 thousand from December 31,
2020, reflecting a negative provision for loan losses of $10 thousand during the
nine months ended September 30, 2021. The allowance for loan losses decreased in
the nine months ended September 30, 2021 as a result of the reduction of
qualitative factor adjustments for the impact of the COVID-19 pandemic on the
Bank's loan portfolio as the COVID-19 related deferrals returned to normal
paying status and the loans performed for an extended period of time, partially
offset by the impact of increased commercial loan production.
The increase of $240 thousand in the ALL from September 30, 2020 to
September 30, 2021 reflects the COVID-19 related exposure in the loan portfolio
and non-SBA PPP commercial loan production. Net recoveries totaled $219 thousand
and net charge-offs totaled $176 thousand for the three and nine months ended
September 30, 2021, respectively, compared with net recoveries of $8 thousand
and $45 thousand for the three and nine months ended September 30, 2020.
Classified loans totaled $26.9 million at September 30, 2021, or 1.4% of total
loans outstanding, reflecting a decrease from $33.1 million, or 1.7% of loans
outstanding, at December 31, 2020. The asset quality ratios previously noted are
indicative of the continued benefit the Company has received from favorable
historical charge-off statistics and generally stable economic and market
conditions for the last few years, even while the loan portfolio has been
growing. Recent loan growth trends
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contributed to management's determination that an increased provision for loan
losses was required to maintain an adequate ALL, with an ALL to total loans
ratio of 1.03% at September 30, 2021 as compared to 1.02% at December 31, 2020.
Excluding SBA loans, which are 100% guaranteed, the ALL to total loans was 1.2%
at September 30, 2021 and 1.3% at December 31, 2020. Despite generally favorable
historical charge-off data, the impact of the COVID-19 pandemic on economic
conditions may result in the need for additional provisions for loan losses in
future quarters.
The following table summarizes the ending loan balances individually or
collectively evaluated for impairment based on loan type, as well as the ALL
allocation for each, at September 30, 2021 and December 31, 2020, including PCI
loans:
                                                                     Commercial                                                                           Consumer
                                                  Acquisition          Commercial
                            Commercial                and                  and                                                      Residential           Installment
                            Real Estate           Development          Industrial          Municipal             Total               Mortgage              and Other             Total             Unallocated             Total
September 30, 2021
Loans allocated by:
Individually evaluated
for impairment            $      4,003          $          -          $    2,941          $       -          $     6,944          $      2,974          $         37          $   3,011          $          -          $     9,955
Collectively evaluated
for impairment                 914,375                84,030             537,264             13,631            1,549,300               361,469                19,040            380,509                     -            1,929,809

                          $    918,378          $     84,030          $  540,205          $  13,631          $ 1,556,244          $    364,443          $     19,077          $ 383,520          $          -          $ 1,939,764
ALL allocated by:
Individually evaluated
for impairment            $          -          $          -          $        -          $       -          $         -          $         29          $          -          $      29          $          -          $        29
Collectively evaluated
for impairment                  11,352                 1,541               3,886                 27               16,806                 2,692                   230              2,922                   208               19,936

                          $     11,352          $      1,541          $    3,886          $      27          $    16,806          $      2,721          $        230          $   2,951          $        208          $    19,965
December 31, 2020
Loans allocated by:
Individually evaluated
for impairment            $      3,528          $        814          $    

$ 3,639 – $ 7,981 $ 3,246

  $         17          $   3,263          $          -          $    11,244
Collectively evaluated
for impairment                 809,087                60,498             643,729             20,523            1,533,837               408,265                26,344            434,609                     -            1,968,446
                          $    812,615          $     61,312          $  647,368          $  20,523          $ 1,541,818          $    411,511          $     26,361          $ 437,872          $          -          $ 1,979,690
ALL allocated by:
Individually evaluated
for impairment            $          -          $          -          $        -          $       -          $         -          $         33          $          -          $      33          $          -          $        33
Collectively evaluated
for impairment                  11,151                 1,114               3,942                 40               16,247                 3,329                   324              3,653                   218               20,118
                          $     11,151          $      1,114          $    3,942          $      40          $    16,247          $      3,362          $        324          $   3,686          $        218          $    20,151



In addition to the specific reserve allocations on impaired loans noted
previously, 12 loans, with aggregate outstanding principal balances of $1.2
million, have had cumulative partial charge-offs to the ALL totaling $640
thousand at September 30, 2021. As updated appraisals are received on
collateral-dependent loans, partial charge-offs are taken to the extent the
loans' principal balance exceeds their fair value.
Management believes the allocation of the ALL between the various loan classes
adequately reflects the probable incurred credit losses in each portfolio and is
based on the methodology outlined in Note 3, Loans and Allowance for Loan
Losses, to the Consolidated Financial Statements under Part I, Item 1,
"Financial Information." Management re-evaluates and makes enhancements to its
reserve methodology to better reflect the risks inherent in the different
segments of the portfolio, particularly in light of increased charge-offs, with
noticeable differences between the different loan classes. Management believes
these enhancements to the ALL methodology improve the accuracy of quantifying
probable incurred credit losses inherent in the portfolio. Management charges
actual loan losses to the reserve and bases the provision for loan losses on its
overall analysis.
The unallocated portion of the ALL reflects estimated inherent losses within the
portfolio that have not been detected, as well as the risk of error in the
specific and general reserve allocation, other potential exposure in the loan
portfolio, variances in
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management's assessment of national and local economic conditions and other
factors management believes appropriate at the time. The unallocated portion of
the ALL totaled $208 thousand, or 1.0% of the ALL balance, at September 30, 2021
compared with $218 thousand, or 1.1% of the ALL balance at December 31, 2020.
The Company monitors the unallocated portion of the ALL and, by policy, has
determined it should not exceed 3% of the total reserve. Future negative
provisions for loan losses may result if the unallocated portion was to
increase, and management determined the reserves were not required for the
anticipated risk in the portfolio.
Management believes the Company's ALL is adequate based on currently available
information. Future adjustments to the ALL and enhancements to the methodology
may be necessary due to changes in economic conditions, regulatory guidance, or
management's assumptions as to future delinquencies or loss rates.
Deposits
Deposits totaled $2.5 billion at September 30, 2021, an increase of $145.2
million, or 6.2%, from $2.4 billion at December 31, 2020.
Noninterest-bearing deposits increased by $88.5 million, or 19.4%, to $545.3
million, from December 31, 2020 to September 30, 2021. Interest-bearing deposits
totaled $2.0 billion at September 30, 2021, an increase of $56.7 million, or
3.0%, from the $1.9 billion balance at December 31, 2020.
Deposit growth in the first nine months of 2021 was principally due to the high
usage of checking accounts for SBA PPP loan funds and an influx of municipal
deposits. As the SBA PPP clients continue to utilize their borrowings to fund
operations, the associated deposits are expected to decline, in addition to a
decrease from the runoff of certificates of deposit.
Shareholders' Equity, Capital Adequacy and Regulatory Matters
Capital management in a regulated financial services industry must properly
balance return on equity to its shareholders while maintaining sufficient levels
of capital and related risk-based regulatory capital ratios to satisfy statutory
regulatory requirements. The Company's capital management strategies have been
developed to provide attractive rates of returns to its shareholders, while
maintaining a "well capitalized" position of regulatory strength.
Shareholders' equity totaled $268.6 million at September 30, 2021, an increase
of $22.4 million, or 9.1%, from $246.2 million at December 31, 2020. The
increase was primarily attributable to net income totaling $26.2 million and
other comprehensive income of $2.3 million for the nine months ended
September 30, 2021. This is offset by dividends paid on common stock totaling
$6.2 million during the nine months ended September 30, 2021.
The Company routinely evaluates its capital levels in light of its risk profile
to assess its capital needs. The Company and the Bank are subject to various
regulatory capital requirements administered by federal and state banking
agencies. The consolidated asset limit on small bank holding companies is $3.0
billion and a company with assets under that limit is not subject to the FRB
consolidated capital rules, but may file reports that include capital amounts
and ratios. The Company has elected to file those reports.
At September 30, 2021 and December 31, 2020, the Bank was considered well
capitalized under applicable banking regulations. Under capital adequacy
guidelines and the regulatory framework for prompt corrective action, the Bank
must meet specific guidelines that involve quantitative measures of assets,
liabilities and certain off-balance sheet items as calculated under regulatory
accounting practices. Prompt corrective action provisions are not applicable to
bank holding companies, including financial holding companies.
Note 8, Shareholders' Equity and Regulatory Capital, to the Notes to Unaudited
Condensed Consolidated Financial Statements under Part I, Item 1, "Financial
Information," includes a table presenting capital amounts and ratios for the
Company and the Bank at September 30, 2021 and December 31, 2020.
In addition to the minimum capital ratio requirement and minimum capital ratio
to be well capitalized presented in the referenced table in Note 8, the Bank
must maintain a capital conservation buffer as more fully described in the
Company's Annual Report on Form 10-K for the year ended December 31, 2020, Item
1 - Business, under the topic Basel III Capital Rules. At September 30, 2021,
the Bank's capital conservation buffer, based on the most restrictive Total
Capital to risk weighted assets capital ratio, was 6.7%, which is greater than
the 2.5% requirement.

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Liquidity

The primary function of asset/liability management is to ensure adequate
liquidity and manage the Company's sensitivity to changing interest rates.
Liquidity management involves the ability to meet the cash flow requirements of
customers who may be either depositors wanting to withdraw funds or borrowers
needing assurance that sufficient funds will be available to meet their credit
needs. Our primary sources of funds consist of deposit inflows, loan repayments,
maturities and sales of investment securities, the sale of mortgage loans and
borrowings from the FHLB of Pittsburgh. While maturities and scheduled
amortization of loans and securities are predictable sources of funds, deposit
flows and mortgage prepayments are greatly influenced by general interest rates,
economic conditions and competition. The maximum borrowing capacity from the
FHLB is $841.6 million at September 30, 2021.
We regularly adjust our investments in liquid assets based upon our assessment
of expected loan demand, expected deposit flows, yields available on
interest-earning deposits and securities and the objectives of our
asset/liability management policy. Unencumbered investment securities totaled
$128.9 million at September 30, 2021. At September 30, 2021, the Company had
$34.2 million of investment securities pledged at the FRB Discount Window, with
no associated borrowings outstanding.
The Company had applied for and received access to the Paycheck Protection
Program Liquidity Facility ("PPPLF"), created by the FRB for the pledging of PPP
loans, to further expand its already robust access to off balance sheet
liquidity. Effective July 30, 2021, PPPLF was terminated and no new extensions
of credit under the PPPLF were made.
Supplemental Reporting of Non-GAAP Measures
As a result of acquisitions, the Company had intangible assets consisting of
goodwill and core deposit and other intangible assets totaling $23.2 million and
$24.2 million at September 30, 2021 and December 31, 2020, respectively.
Management believes providing certain "non-GAAP" financial information will
assist investors in their understanding of the effect of acquisition activity on
reported results, particularly to overcome comparability issues related to the
influence of intangibles (principally goodwill) created in acquisitions.
Tangible book value per share and the allowance to non-SBA guarantee loans, as
used by the Company in this supplemental reporting presentation, are determined
by methods other than in accordance with GAAP. While we believe this information
is a useful supplement to GAAP based measures presented in this Form 10-Q,
readers are cautioned that this non-GAAP disclosure has limitations as an
analytical tool, should not be viewed as a substitute for financial measures
determined in accordance with GAAP, and should not be considered in isolation or
as a substitute for analysis of our results and financial condition as reported
under GAAP, nor are such measures necessarily comparable to non-GAAP performance
measures that may be presented by other companies. This supplemental
presentation should not be construed as an inference that our future results
will be unaffected by similar adjustments to be determined in accordance with
GAAP.
The following table presents the computation of each non-GAAP based measure
shown together with its most directly comparable GAAP based measure.
                                                                 September 30, 2021           December 31, 2020
Tangible Book Value per Common Share
Shareholders' equity                                            $          268,569          $          246,249
Less: Goodwill                                                              18,724                      18,724
Other intangible assets                                                      4,486                       5,458
Related tax effect                                                            (942)                     (1,146)
Tangible common equity (non-GAAP)                               $          

$ 246,301 $ 223,213

Common shares outstanding                                                   11,205                      11,201

Book value per share (most directly comparable GAAP-based measure)

                                                        $            23.97          $            21.98
Intangible assets per share                                                   1.99                        2.05
Tangible book value per share (non-GAAP)                        $            21.98          $            19.93




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                                           September 30, 2021      December 31, 2020
Allowance to Non-SBA Guaranteed Loans:
Allowance for loan losses                 $          19,965       $          20,151
Gross loans                               $       1,939,764       $       1,979,690
less: SBA guaranteed loans                         (261,138)               (404,205)
Non-SBA guaranteed loans                  $       1,678,626       $       1,575,485

Allowance to non-SBA guaranteed loans                   1.2  %              

1.3%

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